A company's botched S corporation election is treated as valid under the inadvertent-invalidity rule

Plain-English summary

An S corporation is a business that elects to be taxed by passing its income through to its shareholders instead of paying corporate-level tax, but the election only works if the company meets the S corporation eligibility rules and files a valid election. Here a company filed Form 2553 intending to be an S corporation from a certain date, but the election was invalid. The company had nonetheless filed its tax returns as an S corporation ever since, and it represented that the defect was inadvertent and not driven by tax avoidance. Section 1362(f) lets the IRS forgive an invalid election when the failure was inadvertent, the company promptly took steps to qualify, and the company and its shareholders agree to any corrective adjustments the IRS requires. The IRS ruled that the invalid election was inadvertent within the meaning of section 1362(f) and that the company will be treated as an S corporation from its intended effective date, on the condition that it files a proper election within 120 days. The IRS pointedly did not opine on whether the company actually qualifies to be an S corporation. This is the routine cure that keeps a company's chosen pass-through tax treatment intact despite a filing slip-up.

Ruling snapshot

• Question: Should a company's invalid S corporation election be treated as inadvertent and the company treated as an S corporation from its intended effective date under section 1362(f)?
• Outcome: approved (inadvertent invalidity relief granted, contingent on filing a proper election within 120 days)
• Key authorities: IRC §§ 1362(f), 1362(a), 1361(a)(1)

Full text (IRS public release)

Internal Revenue Service                                     Department of the Treasury
                                                             Washington, DC 20224

Number: 201910005                                            Third Party Communication: None
Release Date: 3/8/2019                                       Date of Communication: Not Applicable
Index Number: 1362.04-00
                                                             Person To Contact:
----------------------------                                 --------------------------, ID No. ----------------
--------------------------                                   -----------------
----------------------------                                 Telephone Number:
-------------                                                ---------------------
-----------------------------                                Refer Reply To:
                                                             CC:PSI:B03
                                                             PLR-119662-18
                                                             Date:
 X             =     -------------------------------------   December 07, 2018
                     -----------------------

 Date 1        =     ---------------------

 State         =     ----------

 Date 2        =     ---------------------




Dear ------------:

       This responds to a letter dated June 4, 2018, and subsequent correspondence,
submitted on behalf of X by X's authorized representative, requesting relief under
section 1362(f) of the Internal Revenue Code (the Code).

                                                     FACTS

      According to the information submitted and representations made, X was
organized on Date 1 under the laws of State. X filed Form 2553 Election by a Small
Business Corporation intending to elect to be an S corporation effective Date 2;
however, the election was invalid.

       X represents that since Date 2, it has filed its federal income tax returns
consistent with being an S corporation. X represents that its invalid S corporation
election was inadvertent and was not motivated by tax avoidance or retroactive tax
planning. Further, X represents that X and its shareholders will make any adjustments
required as a condition of obtaining relief under the inadvertent termination rule as
provided under § 1362(f) of the Code that may be required by the Secretary.
PLR-119662-18                                 2


                                   LAW AND ANALYSIS

       Section 1361(a)(1) of the Code provides that the term “S corporation” means,
with respect to any taxable year, a small business corporation for which an election
under § 1362(a) is in effect for such year.

      Section 1362(a) provides that, except as provided in § 1362(g), a small business
corporation may elect, in accordance with the provisions of § 1362, to be an S
corporation.

        Section 1362(f) provides, in relevant part, that if (1) an election under § 1362(a)
or § 1361(b)(3)(B)(ii) by any corporation was not effective for the taxable year for which
made (determined without regard to § 1362(b)(2)) by reason of a failure to meet the
requirements of § 1361(b) or to obtain shareholder consents; (2) the Secretary
determines that the circumstances resulting in such ineffectiveness were inadvertent;
(3) no later than a reasonable period of time after discovery of the circumstances
resulting in such ineffectiveness, steps were taken so that the corporation for which the
invalid election occurred is a small business corporation; and (4) the corporation for
which the election was made, and each person who was a shareholder in such
corporation at any time during the period specified pursuant to § 1362(f), agrees to
make the adjustments (consistent with the treatment of such corporation as an S
corporation) as may be required by the Secretary with respect to such period, then,
notwithstanding the circumstances resulting in such ineffectiveness, such corporation
shall be treated as an S corporation during the period specified by the Secretary.

                                      CONCLUSION

       Based solely on the facts submitted and the representations made, we conclude
that X's S corporation election was inadvertently invalid within the meaning of § 1362(f).
Pursuant to the provisions of § 1362(f), X will be treated as an S corporation from Date
2.

       This ruling is contingent upon, within 120 days from the date of this letter, X filing
with the appropriate service center an election to treat X as an S corporation effective
as of Date 2. A copy of this letter should be attached to the election.

         Except as specifically ruled upon above, we express or imply no opinion
concerning the federal tax consequences of the facts of this case under any other
provision of the Code. Specifically, we express or imply no opinion regarding X's
eligibility to be an S corporation.

      This ruling is directed only to the taxpayer that requested it. According to
§ 6110(k)(3), this ruling may not be used or cited as precedent.
PLR-119662-18                                 3


        Pursuant to the power of attorney on file with this office, we are sending a copy of
this letter to your authorized representative.


                                              Sincerely,




                                              Adrienne M. Mikolashek
                                              Branch Chief, Branch 3
                                              (Passthroughs and Special Industries)


Enclosures (2)
      Copy of this letter
      Copy for § 6110 purposes